The importance of appointing state finance commissions

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A man holds out a indian rupee money bag. Budget management, tax collection. Trade, economics. Granting financing business project or education. Provision cash financial loan credit. Bank deposit.


It seems that state finance commissions do not get any urgency from the state cabinets and consequently from the public too

On the last day of 2023, the President issued a gazette notification for the appointment of the 16th Finance Commission. While there was a lot of interest in the announcement, an omission in the other end of the public finance continues to attract no attention. 

States are not appointing finance commissions (SFC). Both the central government appointed finance commissions and the state government appointed ones are constitutional provisions and must be constituted every five years. The former under article 280 and the latter under 243(I). The former is set up regularly – although the 16th FC has been appointed with a delay of more than a year – the latter with long gaps. 

Worse, as a fairly recent National Institute of Public Finance and Policy (NIPFP) paper points out “state governments are constrained (from implementing) these recommendations on the grounds of poor quality of SFC reports". (Manish Gupta & Pinaki Chakraborty, 2019

It found that as per the constitutional provisions, setting up of fifth SFC became due in 2014-15 in all the states. But even as late as in 2019, only 13 states had constituted their fifth SFC. Since many of these hadn’t still submitted their reports, not many states were in a position to set up their sixth SFCs which become due in 2019-20.

Five states had constituted their fourth SFCs and there were several states that were still in their third and second SFCs. Jammu & Kashmir hadn’t even constituted its second SFC, while Mizoram which was exempted from constituting SFC as per the 73rd and 74th Amendment Act constituted its first SFC in September 2011. 

Telangana, the newest state, was formed out of Andhra Pradesh in June 2014. It constituted its first SFC in December 2017. Thus, there is a considerable divergence between the constitutional provisions regarding setting up of SFCs and their working on the ground.

What do the respective commissions do? 

The federal one decides on the allocation of tax and grants in aid proceeds between the central government and the states, as well as those among the states. The state level ones recommend the distribution between the state and local bodies of the net proceeds of taxes leviable by the state and inter-se allocation between different panchayats and urban bodies, plus assignment of certain taxes and grants-in-aid. 

So, there is a clear evident division in the roles of the two layers of the commissions. For instance, the former makes allocations for the local governments from the central taxes, whereas the latter decides on the division from the state level levies. 

As of now every state should have constituted their sixth finance commissions, but a scorecard from the 15th Finance Commission notes only nine have set those up and of those only two are in operation. 

Given the financial size of the municipal corporations, even panchayats and the impact they have on the lives of citizens compared to the national finance commissions, this is a huge gap in public finance. Who will bell the cat to get them going?

It will not be correct to assume that as the taxation powers have weighed heavily towards the Centre, even more so after the GST, the role of the SFCs have come down accordingly. 

The problems are elsewhere. Since there is little public scrutiny of the states in these respects, the delays are overlooked. This leads to the second problem. The quality of the reports these SFCs submit is often below par. This is often because the chairmen and members of these commissions are almost never drawn from experts, says the NIPFP paper mentioned above.

The posts are always filled with former bureaucrats with rarely any knowledge of public finance. In a break from the past, public finance experts were appointed to chair the central finance commissions – a prominent example being of eminent economist and former finance secretary Dr. Vijay Kelkar getting appointed as chairman of thirteenth finance commission. 

The third problem is the time given to the SFCs by states to submit their reports. Since the appointment is under duress, often a prod by the Comptroller and Auditor General, the time frame available to them to work out the details is bare minimum. There are attendant problems of lack of support staff and office space. 

The consequences are serious. The principal role of the SFCs is to create accountability at the third tier of governance. Earlier the municipal corporations and panchayats were starved of funds. Not anymore. The ones in the metros and the next level have massive finance. What they do not have or do not care to build up is a sense of responsibility. The poorly governed bodies offer shoddy services to their citizens. Both for the rapidly urbanizing tracts and for the villages this is akin to being short changed. 

For the average Indian, it often matters little how income, corporation taxes or GST is allocated between the Centre and the states. In their daily life, it is the provision of municipal services that matters. Justifiably so. The SFCs, if they could have devised clear rewards and punishment for these governments, they could have set off a massive visible change in a people centric governance. 

The states also lose out on a critical handle of power. Chief ministers are often leery of handing out power to the elected municipal councilors and panchayat pradhans, assuming them as threat to their leadership. 

Well-functioning SFC could have strengthened the hands of the state leadership offering a clear measuring rod to evaluate performance at the third tier of governance. The regular appointment to SFCs and their reports would have kept the balance of power going on. Given these levels of incentives, it is rather disappointing that SFCs do not get any urgency from the state cabinets and consequently from the public too.  

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